By David Kerr
It seems odd to be talking about buying or selling an I-502 marijuana business before a single gram of recreational cannabis has been produced or purchased in Washington, but that’s where we find ourselves in the newly emerging market right now.
The process has been made more uncertain by several challenges. Applicants have faced difficulties in securing a viable location. Intransigent local governments have done everything in their power to inhibit this new industry, and decisions by the Liquor Control Board have confused the process.
First, the Liquor Control Board limited the application period to a ridiculously short 30-day window. Then the rules adopted by the Liquor Control Board said businesses could apply for up to three separate licenses and the budding marijuana entrepreneurs enthusiastically took them up on this opportunity. A marijuana business applying for three Tier 3 licenses (allowing a potential of up to 90,000 square feet of plant canopy) was not uncommon. Then, the Liquor Control Board announced that applicants would be limited to a single license, capped at 70 percent of the proposed plant canopy, and requiring that any additional applications be withdrawn or suspended.
Finally, the Liquor Control Board announced that once an applicant has completed the initial interview, they will no longer be able to make changes to their ownership structure, financiers or location until they have completed the licensing process.
These limitations notwithstanding, there appears to be a burgeoning market for entrepreneurs who want to buy into or sell businesses that applied for an I-502 license. Just take a look at Craigslist; it is rife with solicitations and offers to buy or sell a business that holds an I-502 application. So if you are in the market (either as a potential buyer or potential seller) here are some things you need to consider, particularly since this is new and largely uncharted territory.
Type of entity matters: If the entity holding the I-502 application is an LLC or corporation, the process for effecting a change of ownership structure or adding true parties of interest/investors is relatively simple. You can add members to the LLC or shareholders to the corporation by filing an amended annual report with the Secretary of State Corporation Division. You can’t do this online, the way you would if you were initially registering the LLC or corporation or filing the annual report at the end of the year. You have to call the Secretary of State’s office and request the form to amend your annual report.
If the entity holding the I-502 application is a sole proprietorship, general partnership, limited partnership or limited liability partnership, the adopted Liquor Control Board rules make it considerably more difficult, if not impossible. The adopted rules state that for a sole proprietorship, general partnership, limited partnership, or limited liability partnership, general partnership, limited partnership or limited liability partnership, a new application for a license is required. Since the application window for a license is long since closed, there is not a mechanism in place for the person seeking to acquire a sole proprietorship to file a new application. Likewise, a partnership would also not be able to apply for a new application to add new partners. You can’t just convert a sole proprietorship or partnership into an LLC or corporation. LLCs and corporations are separate legal entities, created and registered with the Secretary of State Corporation Division and that newly created entity isn’t the entity that applied for the I-502 license.
Timing matters: It is advantageous if the entity holding the licenses has not yet had its initial interview with the Liquor Control Board. If there hasn’t been an initial interview, the entity can make changes to the ownership structure of the LLC or corporation relatively easily. Again, all this requires is filing an amended annual report with the Secretary of State Corporation Division.
When the entity does have its initial interview with the Liquor Control Board, you will identify all true parties of interest and the process will proceed as normal. If, on the other hand, the entity has already had its initial interview, the Liquor Control Board will place the application on hold for six months before it comes back to that application for processing. You can still effectively complete the sale or acquisition; it will just require a delay in the completion of the application approval process.
Protecting yourself really, really matters: As mentioned earlier, this is largely new and uncharted territory. When you are traversing new and uncharted territory, the dangers increase significantly.
I-502 applicants have something that is potentially very valuable – the application that will get them the license that will grant them the right to produce, process or sell marijuana in Washington. These same applicants may not have a high degree of business savvy or sophistication. They are perhaps masterful when it comes to growing or processing, but they do not have experience in managing a company, working with investors or buying/selling a business.
This combination of holding a valuable asset and perhaps a lack of experience in the bare knuckles world of business and finance draws the unscrupulous and predatory on both the buyer and seller side of the transaction.
Know that there are those that will seek to take advantage of you. If you are looking to sell a business that holds an I-502 application, are looking to bring investors, members or shareholders into your I-502 business, or are looking to buy your way into the new I-502 industry, be very cautious. Understanding how to structure the deal, navigate the shifting regulatory landscape, and protect your interests and assets is critical.
If a potential purchaser or seller tells you “This is easy,” or “Don’t worry,” or “We do this all the time,” you should be wary.
Everything should be in a contract. Everything should be well understood and the risks (not just the potential rewards) should be fully explained. Find trusted advisors — a good business attorney that understands this new market and who can protect your interests; an accountant that understands and can guide you on the financial and tax implications.
What you do not want is to be the person that decides to sell or acquire an interest in an entity that holds an application for an I-502 license and then, when all the dust settles, discover that you end up holding nothing.
Attorney David Kerr serves business clients throughout the state, including an emphasis on the emerging legal, regulatory and compliance issues facing new cannabis businesses.